Xi solidified his power base with loyalists without signalling a successor. It’s looking increasingly like China and the rest of the world will be stuck with Xi Jinping beyond 2022. As the BBC reports, China has revealed its new senior leadership committee, breaking with tradition by not including a clear successor to President Xi Jinping. The omission cements Mr Xi’s grip on China for the next five years and possibly beyond, a day after his name was written into the constitution. Five new appointments were made to the seven-member Politburo Standing Committee, China’s most powerful body, while the absence of an heir raises questions over how long Mr Xi intends to rule… Apart from 64-year-old Mr Xi, premier Li Keqiang, 62, was the only committee member to retain his position. Chinese leaders have in recent decades hinted at one or more possible heirs to the Standing Committee at the beginning of their final term, indicating a clear line of succession. There had been speculation that Mr Xi would elevate his protg Chen Miner and Guangdong party secretary Hu Chunhua, both of whom are in their 50s – young enough to be credible successors. But the six dark-suited men who walked out on stage on Wednesday were all in their 60s and are all likely to retire at the end of this five-year term. The absence of any younger members will fuel speculation about Mr Xi’s long-term intentions and his eventual successor. There had been rumors that Mr Xi would reduce the size of the Standing Committee from seven to five, further tightening his control, but they proved unfounded.

Sudden Financial Meltdown is less likely. The Chinese government has the situation under control and will do whatever it takes to keep it under control – that’s in essence what Premier Li Keqiang said today in a speech at the World Economic Forum in the Chinese city of Dalian. ‘We are fully capable of achieving the main economic targets for the full year,’ Li said. The mandated growth rate this year is 6.5%. ‘Currently, China also faces many difficulties and challenges, but we are fully prepared,’ he said, according to Reuters. He said this because everyone from the IMF and the New York Fed on down has been pointing at and fretting about the debt powder keg that China keeps filling with ever more volatile compounds. ‘There are indeed some risks in the financial sector, but we are able to uphold the bottom line of no systemic risks,’ he said. ‘We are fully capable of preventing various risks and making sure economic operations will be within a reasonable range.’ So the powder keg isn’t going to blow up. As ever more debt is added, the government is pursuing the shift to a consumer-driven economy, while trying to tamp down on excess and outdated capacity in some select industries such as steel and coal. These cuts, Li said, would continue. ‘No development is the biggest risk for China,’ he said, so China wants to ‘sustain medium- to high-speed economic growth over the long term.’ But given the size of China’s economy, it ‘will not be easy.’ In other words, come hell or high water, credit creation will continue in order to maintain this mandated growth.

‘China’s economy has entered a state of new normal.’ – Premier Li Keqiang, 2015 ‘Success breeds a disregard of the possibility of failure.’ – Hyman Minsky Welcome to the new, improved, faster-to-read, better yet still-free Thoughts from the Frontline. My team and I have been doing a lot of research on what my readers want. The reality is that my newsletter writing has experienced a sort of ‘mission creep’ over the years. Bluntly, the letter is just a lot longer today than it was five or ten years ago. And when I’m out talking to readers and friends, especially those who give me their honest opinions, many tell me it’s just too much. There are some of you who love the length and wish it were even longer, but you are not the majority. Not even close. We all have time constraints, and I wish to honor those. So I am going to cut my letter back to its former size, which was about 50% of the length of more recent letters. (Note: this paragraph is going to open the letter for the next month or so, since not everybody clicks on every letter. Sigh. Surveys showed us it’s not because you don’t love me but because of demands on your time. I want you to understand that I get it.) Now to your letter…

The Russian central bank opened its first overseas office in Beijing on March 14, marking a step forward in forging a Beijing-Moscow alliance to bypass the US dollar in the global monetary system, and to phase-in a gold-backed standard of trade. According to the South China Morning Post the new office was part of agreements made between the two neighbours “to seek stronger economic ties” since the West brought in sanctions against Russia over the Ukraine crisis and the oil-price slump hit the Russian economy. According to Dmitry Skobelkin, the deputy governor of the Central Bank of Russia, the opening of a Beijing representative office by the Central Bank of Russia was a ‘very timely’ move to aid specific cooperation, including bond issuance, anti-money laundering and anti-terrorism measures between China and Russia. The new central bank office was opened at a time when Russia is preparing to issue its first federal loan bonds denominated in Chinese yuan. Officials from China’s central bank and financial regulatory commissions attended the ceremony at the Russian embassy in Beijing, which was set up in October 1959 in the heyday of Sino-Soviet relations. Financial regulators from the two countries agreed last May to issue home currency-denominated bonds in each other’s markets, a move that was widely viewed as intended to eventually test the global reserve status of the US dollar. Speaking on future ties with Russia, Chinese Premier Li Keqiang said in mid-March that Sino-Russian trade ties were affected by falling oil prices, but he added that he saw great potential in cooperation. Vladimir Shapovalov, a senior official at the Russian central bank, said the two central banks were drafting a memorandum of understanding to solve technical issues around China’s gold imports from Russia, and that details would be released soon.

As part of the previously previewed “Two Sessions” which started on Sunday, Chinese Premier Li Keqiang on Sunday delivered the annual report on the work of the government in Beijing, summarizing the country’s achievements in the past year, and setting goals for this year. In his policy speech, lasting 97 minutes and 18,600 Chinese characters, Li signaled a course adjustment for the world’s second-largest economy and some important changes in tone.

The US has Jeff Sessions, but China is about to have “two sessions”. Starting Sunday is a two-week period of heightened political discourse, if not exactly debate, among the top echelons of China’s Politburo, also known as China’s “two sessions.” The China People’s Political Consultative Conference (CPPCC) starts on March 3 and will conclude on the 13th. The National People’s Congress (NPC) will start on March 5 and last until the 16th. On March 5, Premier Li Keqiang will announce 2017 economic targets (e.g., GDP growth and CPI) and policy measures including fiscal and monetary policy (e.g., on-budget deficit, M2 and TSF) in the morning session of NPC. A number of senior economic officials, including Premier Li, will also hold press conferences during the meetings to provide further details/clarifications on policies in major economic fronts. In previewing what to expect from the “two sessions”, this week Xinhua reported that China will “not flood the economy with government investment as it pursues more stable, healthy economic growth,” an official with the top economic planner said Wednesday. “Instead, it will focus on supply-side reform for a modest expansion of aggregate demand,” said Li Pumin, secretary general of the National Development and Reform Commission, at a news conference. Li made the remarks when answering a question on whether China would roll out a major stimulus plan like in 2008.

Two millennia ago, according to the bible, three wise men came to offer Jesus the gifts of gold, frankincense and myrrh. The peak of the Roman Empire is considered to be at the time Jesus was born although it took until 476 AD until the Western Empire finally fell. Today, just over 2000 years later, we might be standing at another historical peak in the global economy. There are certainly many similarities like deficits, debts and decadence. Just like the Roman Emperors, current leaders have illusions of grandeur of a magnitude that the world has never seen before. So let’s look at the modern version of the three wise men. What gifts are they bringing the world?As in the illustration below I have picked three central individuals in the world today; Draghi – head of the ECB, Li Keqiang – Premier of China and Abe – Prime minister of Japan. In themselves they are not that important but the country or region they represent is. Italy – the next nail in the EU coffin Let’s first look at Draghi the President of the ECB, obviously with the required Goldman Sachs connections.

China has failed to curb excesses in its credit system and faces mounting risks of a full-blown banking crisis, according to early warning indicators released by the world’s top financial watchdog.A key gauge of credit vulnerability is now three times over the danger threshold and has continued to deteriorate, despite pledges by Chinese premier Li Keqiang to wean the economy off debt-driven growth before it is too late.The Bank for International Settlements warned in its quarterly report that China’s “credit to GDP gap” has reached 30.1, the highest to date and in a different league altogether from any other major country tracked by the institution. It is also significantly higher than the scores in East Asia’s speculative boom on 1997 or in the U.S. subprime bubble before the Lehman crisis.Studies of earlier banking crises around the world over the last sixty years suggest that any score above ten requires careful monitoring. The credit to GDP gap measures deviations from normal patterns within any one country and therefore strips out cultural differences.It is based on work the U.S. economist Hyman Minsky and has proved to be the best single gauge of banking risk, although the final denouement can often take longer than assumed. Indicators for what would happen to debt service costs if interest rates rose 250 basis points are also well over the safety line.

The pinnacle of the global financial system is warning that conditions are right for a ‘full-blown banking crisis’ in China. Since the last financial crisis, there has been a credit boom in China that is really unprecedented in world history. At this point the total value of all outstanding loans in China has hit a grand total of more than 28 trillion dollars. That is essentially equivalent to the commercial banking systems of the United States and Japan combined. While it is true that government debt is under control in China, corporate debt is now 171 percent of GDP, and it is only a matter of time before that debt bubble horribly bursts. The situation in China has already grown so dire that the Bank for International Settlements is sounding the alarm… A key gauge of credit vulnerability is now three times over the danger threshold and has continued to deteriorate, despite pledges by Chinese premier Li Keqiang to wean the economy off debt-driven growth before it is too late. The Bank for International Settlements warned in its quarterly report that China’s ‘credit to GDP gap’ has reached 30.1, the highest to date and in a different league altogether from any other major country tracked by the institution. It is also significantly higher than the scores in East Asia’s speculative boom on 1997 or in the US subprime bubble before the Lehman crisis. Studies of earlier banking crises around the world over the last sixty years suggest that any score above ten requires careful monitoring.

A Chinese shipbuilder failed to make a bond payment due Monday, becoming the second such company to default in the onshore market this year.Wuhan Guoyu Logistics Industry Group Co., which is based in the central province of Hubei, didn’t transfer funds for interest and principal payment to the Shanghai Clearing House before the due time, according to a statement Monday. The firm issued the 400 million yuan ($60 million) of one-year bonds at 7 percent in 2015.Chinese companies are struggling with record debt payments in the second half as Premier Li Keqiang seeks to cut overcapacity with the economy growing at the slowest pace in a quarter century. At least 18 local yuan bonds have now defaulted this year, exceeding the seven for all of 2015.The shipbuilder said on Aug. 1 it may not be able to repay the notes because of a capital shortage. The company also has 200 million yuan of securities due on Oct. 28, according to Bloomberg data.Another shipbuilder Evergreen Holding Group Co. defaulted in May.

‘Tough Negotiations’ The European press informs us that a delegation of EU Commission minions, including Mr. JC Juncker (who according to a euphemistically worded description by one of his critics at the Commission ‘seems often befuddled and tired, not really quite present’) and European Council president Donald Tusk, has made landfall in Beijing. Their mission was to berate prime minister Li Keqiang over alleged ‘steel dumping’ by China and get him to cease and desist. The left-leaning Guardian writes – in a somewhat strident-sounding tone – that ‘Jean-Claude Juncker threatens China over steel dumping in Europe’. ‘The president of the European commission has warned China must stop dumping cheap steel in Europe or it could fail to gain market economy status with the World Trade Organization, which Beijing is desperate to secure. Jean-Claude Juncker said that Beijing and the EU had agreed to establish a working group to discuss the crisis in the steel industry and monitor steel shipments from China. ‘The EU will defend its steel industry. We are not defenceless, and we will use all the means at our disposal,’ Juncker said in Beijing after talks with the Chinese government. (emphasis added) We mention the strident tone mainly because steel workers are a kind of symbol/ hobby horse of the left – a nostalgic remnant, as the historic roots of socialism and unionism are often associated with smokestack industries. So they can’t help praising this apparently testosterone-laden version of Juncker, striding upon the international stage to fight for the rights of the steel worker! Yeah, baby! Time to play hardball with these yellow perils! Friendship, comrade!

There was a palpable sense of disappointment among US traders who woke up this morning, expecting China to have announced another major stimulus – whether an RRR or full-blown interest rate cut – following Saturday’s announcement that after 46 consecutive months of wholesale deflation, not to mention a historic market rout, China had not engaged in another round of monetary, or at least fiscal, and very much self-defeating stimulus. The mood turned even more sour when the same traders, used to getting bailed out by central banks or nation states, read the tape from the overnight Bloomberg, according to which China’s premier was quoted by Beijing News as vowing that there would be “no more strong stimulus on the economy“. Just as bad, the prime minister added that China wouldn’t seek strong stimulus or flood the economy with too much money to expand demand, Beijing News quoted Li Keqiang as saying in Taiyuan city. Li then added that China will try its best to develop new business models and create new drivers for the economy, which naturally is bad news for a market which is used to the old, conventional form of “growth”: throwing trillions in cash at the problem and hoping something sticks. Finally, and most confusing, was Li saying that China must take concrete measures to ease overcapacity in the steel and coal sectors.

When it comes to explaining why the post-crisis world has been defined by lackluster aggregate demand and a deceleration in global trade, all roads lead to China. Indeed, the country’s attempt to mark a difficult transition from an investment-led, smokestack economy to a consumption and services-led model has contributed mightily to an epic downturn in commodities which has in turn conspired with an expected Fed tightening cycle and a laundry list of country-specific political risk factors to push EM to the brink of disaster. All of this is complicated by the fact that no one really knows how China’s economy is actually doing. Everyone knows the ‘official’ GDP prints are a joke and alternative measures such as the Li Keqiang index and the CBB paint a worrying picture of how the world’s engine of global growth and trade is really performing. ‘National sales revenue, volumes, output, prices, profits, hiring, borrowing, and capital expenditure were all weaker than the prior three months,’ the CBB reported just days ago, commenting on the performance of the Chinese economy in Q4. The profit reading is “particularly disturbing,” CBB President Leland Miller said, before noting that the share of firms reporting earnings gains has slipped to the lowest level ever recorded.

It’s notoriously difficult to get a read on the health of China’s economy. The ambiguity is in large part attributable to the NBR’s tendency to goalseek the data in order to ensure that growth remains in line with the Party’s ‘targets.’ To be sure, virtually no one believes the official numbers and when it comes to GDP, the situation is complicated by what we’ve called Beijing’s deficient deflator math, which causes China to habitually overstate economic growth during times of rapidly falling commodity prices. Although sellside estimates are useless (the Street is effectively forced to produce forecasts they know are erroneous because trying to estimate actual output in China would mean missing the ‘official’ mark every single time) we can get a decent approximation of how the country is really doing by looking at the Li Keqiang index, which tracks electricity consumption, rail cargo, and loans. Another way to assess the health (or lack thereof) of the world’s engine of global growth and trade is the CBB, or, China Beige Book which is modeled on the Fed’s survey of the U. S. economy. According to the CBB, the Chinese economy deteriorated markedly in Q4 and the weakness was broad-based.

On August 11, the day Beijing shocked the world by devaluing the yuan, a whole host of commentators suggested that the move was designed to bolster China’s bid for SDR inclusion. To be sure, the timing would have been right. On at least two separate occasions in August the wires lit up with reports that the IMF was leaning towards making the RMB the fifth currency in the basket and with the official decision due in November, some believed China was simply trying to seal the deal by making it seem as though the market would play a greater role in determining the exchange rate going forward. Of course that’s all nonsense. First, the market doesn’t play a greater role in the new FX regime. In fact, the market’s role is reduced. Previously, the PBoC manipulated the fix to control the spot, but now, the central bank manipulates the spot to control the fix and manipulating the spot means heavy-handed intervention. Second, China’s deval has far more to do with a desperate attempt to boost the flagging export-driven economy. Sure, the official headline GDP print can be whatever a bunch of Politburo central planners want it to be, but the reality (as measured by the Li Keqiang Index and by private economists outside of the bulge bracket) is that growth is nowhere near 7% and indeed, it might very well be that in times of rapidly declining commodity prices, China’s inability to accurately measure the deflator means real output would be materially overstated even if the NBS were putting out accurate figures otherwise.

Distrusting China’s official numbers but lacking credible alternatives, analysts should give less weight to GDP as an indicator of economic health and newspapers should give less weight to GDP short-term forecasts. What is the current level of China’s GDP growth? 7% (official), 5,5% (Capital Economics), or 4% (Citi)? In fact, nobody knows. Official data is not trusted, but credible alternatives appear hard to build. Nevertheless, GDP forecasts for the Chinese economy constantly make the headlines of newspapers, the latest buzz from Citigroup’s Willem Buiter being that China will be in recession next year, while last week dedicating an official announcement of 6.9% growth for Q3. A political tale: Are the numbers made up? Many regard China’s official GDP numbers with suspicion. It has been common to point to the fact that the National Bureau of Statistics (NBS) announced 7.0% for GDP growth in 2015H1, exactly meeting the 2015 official target. Some underline that the addition of all the provincial GDP exceeds national GDP. Others reported Chinese GDP growth has been the least volatile of its kind compared other countries. Finally, one usually points to the leaked 2007 comments of Li Keqiang, now-Premier and then-Liaoning province chief, that GDP data were man made and that one would be better off looking at electric consumption, rail freight, and bank lending. The arguments range from the fact that there exist widespread errors in GDP reporting to the traditional assumption figures twisted for political reasons in the end. The reasons for this high level of political sensitivity would be the importance given to quarterly GDP announcements in the business media and the benefits from meeting targets and maintaining economic optimism.

Submitted by Doug Noland via Credit Bubble Bulletin, October 30 – BloombergView (By Matthew A. Winkler): ‘Ignore China’s Bears: There’s a bull running right past China bears, and it’s leading the world’s second-largest economy in a transition from resource-based manufacturing to domestic-driven services such as health care, insurance and technology. Just when the stock market began its summer-long swoon, investors showed growing confidence in the new economy — and they abandoned their holdings in the old economy. These preferences follow Premier Li Keqiang’s directive earlier in the year at the National People’s Congress to ‘strengthen the service sector and strategic emerging industries.” Bubbles always feed – and feed off of – good stories. Major Bubbles are replete with great fantasy. Even as China’s Bubble falters, the recent ‘risk on’ global market surge has inspired an optimism reawakening. August has become a distant memory. In the big picture, the ‘global government finance Bubble – the Granddaddy of all Bubbles’ is underpinned by faith that enlightened global policymakers (i.e. central bankers and Chinese officials) have developed the skills and policy tools to stabilize markets, economies and financial systems. And, indeed, zero rates, open-ended QE and boundless market backstops create a ‘great story’. Astute Chinese officials dictating markets, lending, system Credit expansion and economic ‘transformation’ throughout a now enormous Chinese economy is truly incredible narrative. Reminiscent of U. S. market sentiment in Bubble years 1999 and 2007, ‘What’s not to like?’ Never have a couple of my favorite adages seemed more pertinent: ‘Bubbles go to unimaginable extremes – then double!’ ‘Things always turn wild at the end.’ Well, the ‘moneyness of Credit’ (transforming increasingly risky mortgage Credit into perceived safe and liquid GSE debt, MBS and derivatives) was instrumental the fateful extension of the mortgage finance Bubble cycle. At the same time, Central banks and central governments clearly have much greater capacity (compared to the agencies and ‘Wall Street finance’) to propagate monetary inflation (print ‘money’). Most importantly, this government ‘money’ and the willingness to print unlimited quantities to buttress global securities markets now underpin securities markets on a global basis (‘Moneyness of Risk Assets’). And unprecedented securities market wealth underpins the structurally impaired global economy.

October 30 – BloombergView (By Matthew A. Winkler): ‘Ignore China’s Bears: There’s a bull running right past China bears, and it’s leading the world’s second-largest economy in a transition from resource-based manufacturing to domestic-driven services such as health care, insurance and technology. Just when the stock market began its summer-long swoon, investors showed growing confidence in the new economy – and they abandoned their holdings in the old economy. These preferences follow Premier Li Keqiang’s directive earlier in the year at the National People’s Congress to ‘strengthen the service sector and strategic emerging industries.” Bubbles always feed – and feed off of – good stories. Major Bubbles are replete with great fantasy. Even as China’s Bubble falters, the recent ‘risk on’ global market surge has inspired an optimism reawakening. August has become a distant memory. In the big picture, the ‘global government finance Bubble – the Granddaddy of all Bubbles’ is underpinned by faith that enlightened global policymakers (i.e. central bankers and Chinese officials) have developed the skills and policy tools to stabilize markets, economies and financial systems. And, indeed, zero rates, open-ended QE and boundless market backstops create a ‘great story’. Astute Chinese officials dictating markets, lending, system Credit expansion and economic ‘transformation’ throughout a now enormous Chinese economy is truly incredible narrative. Reminiscent of U. S. market sentiment in Bubble years 1999 and 2007, ‘What’s not to like?’ Never have a couple of my favorite adages seemed more pertinent: ‘Bubbles go to unimaginable extremes – then double!’ ‘Things always turn wild at the end.’ Well, the ‘moneyness of Credit’ (transforming increasingly risky mortgage Credit into perceived safe and liquid GSE debt, MBS and derivatives) was instrumental the fateful extension of the mortgage finance Bubble cycle. At the same time, Central banks and central governments clearly have much greater capacity (compared to the agencies and ‘Wall Street finance’) to propagate monetary inflation (print ‘money’). Most importantly, this government ‘money’ and the willingness to print unlimited quantities to buttress global securities markets now underpin securities markets on a global basis (‘Moneyness of Risk Assets’). And unprecedented securities market wealth underpins the structurally impaired global economy. China has been a focal point of my ‘global government finance Bubble’ thesis. Unprecedented 2009 stimulus measures were instrumental in post-crisis global reflation. Importantly, China – and developing economies more generally – had attained strong inflationary biases heading into the 2008/09 crisis. Accordingly, the rapid Credit system and economic responses to stimulus measures had the developing world embracing their newfound role of global recovery ‘locomotive’. I contend that the associated ‘global reflation trade’ was one of history’s great speculative episodes. I have posited that the bursting of this Bubble (commodities and EM currencies) marks a historical inflection point for the global government finance Bubble. I find it remarkable that this analysis remains so extremely detached from conventional thinking.

Right up until Beijing’s move to devalue the yuan temporarily shifted the market’s focus away from Chinese economic data in favor of the daily RMB fixings, Western investors watched closely every evening for any signs of just how ‘hard’ China’s landing is ultimately shaping up to be. Of course the data point par excellence when it comes to gauging the degree to which the Chinese economic engine is sputtering is the all-important (and all-fabricated) GDP print, which has a way of conforming to Beijing’s 7% ‘target.’ The interesting thing about Chinese GDP data is not that it’s hopelessly overstated. Everyone knows that. There’s no telling what the ‘real’ number is and the best way to get a read on what’s actually going on is probably to look at the so-called Li Keqiang index which tracks the variables the Chinese premier thinks are the best way to approximate output, but then again, who knows. What’s interesting is the degree to which China’s GDP prints may be overstated as a result of something other than outright manipulation and fabrication: namely, the country’s inability to accurately measure the deflator.

The fact that China habitually overstates its GDP growth is probably the worst kept secret in the world next to Russia’s support for the Ukrainian separatists at Donetsk. In short, the idea that China’s economy is growing at a 7% clip is so laughable that at this juncture, even the very ‘serious’ people are openly challenging it. To be sure, it’s not entirely clear what part of the fabricated numbers represent willful deception and what part simply derive from an inability to accurately assess the situation. For instance, the deflator tracks producer prices more closely than it probably should, meaning GDP is overstated in times of plunging commodity prices but that might well stem more from a lack of robust statistical systems than it does from a desire to mislead the market. In any event, getting an accurate read on Chinese economic growth has become something of a contest. It’s almost as if the market thinks that one day, the truth will come out and everyone wants to be able to say ‘my estimate was the closest.’ What’s particularly interesting about the whole thing is that a quick look at the variables that Premier Li Keqiang himself has said are a better proxy for economic growth in the country (electricity usage, rail freight volume, and credit growth) suggest GDP growth in China may actually be running below 4%. SocGen’s Albert Edwards and any number of other analysts have noted this as well.